Debt-Ceiling Standoff Distorts Short-Term Treasury Market
The U.S. debt-ceiling standoff is skewing investor preferences for different types of Treasurys.
Investors are demanding more yield to hold some short-term Treasurys with the greatest risk of delayed payment. Meanwhile, they are driving down yields on a dwindling supply of others, with the Treasury Department slowing short-term borrowing to push off hitting the ceiling.
Similar bond-market distortions have flared up in the past when the government neared its legally imposed borrowing limit. Traders aren’t actually afraid that the government won’t pay back the money that it owes, said
Blake Gwinn,
head of U.S. interest rates strategy at RBC Capital Markets. But even running short of cash for a few days before lawmakers strike a deal would create headaches for asset managers and custodian banks, who use computer systems not designed to deal with bonds that continue past their maturities.
In 2013, the Treasury Market Practices Group—a group of market professionals sponsored by the New York Federal Reserve—issued guidelines that it said might “at the margin, reduce some of the negative consequences of a delayed payment on Treasury debt.” Still, it concluded that “the consequences of such a delay would nonetheless be severe” because some market participants might not be able to implement the practices while others would have “to rely on substantial manual intervention—a recourse that poses additional operational risks.”
Typically, investors demand higher yields for Treasurys with longer maturities to compensate for the risk that inflation could accelerate or that the Federal Reserve could raise interest rates. This applies even to the shortest-term debt—securities known as bills that carry maturities of one year or less.
In recent weeks, however, bills maturing in mid-October through mid-November have offered higher yields than those maturing in subsequent months. That is due to the risk that the government might reach its borrowing limit around that time period and not immediately have the money to pay its creditors.
On Tuesday, yields on a handful of bills got an extra boost when Treasury Secretary
Janet Yellen
told Congress that the government could reach its borrowing limit by Oct. 18, after which it would be uncertain whether it would be able to meet its payment obligations. Ms. Yellen had previously only said that the government might exhaust its abilities to extend its borrowing authority sometime in October, making it difficult for traders to know exactly which bills to avoid.
In recent trading, a bill due on Oct. 19 was offering a bid yield of 0.089%, according to Tradeweb, up from 0.048% before Ms. Yellen’s statement. A bill due on Dec. 2 was yielding just 0.30%.
Current distortions in the $4 trillion bill market are still mild compared with some in the…
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